Judy Asks: Will Cheap Oil Kill Global Stability?

A selection of experts answer a new question from Judy Dempsey on the foreign and security policy challenges shaping Europe’s role in the world.

Kris BledowskiDirector of economic studies at the Manufacturers Alliance for Productivity and Innovation

The answer depends on how “stability” is defined. In political terms, one could see some instability creep in or deepen in countries where oil plays a disproportionately large fiscal role. Yet this impact would be felt locally rather than globally, and mostly in countries with already-weak polities. Venezuela, Nigeria, or parts of the Middle East come to mind. It’s less likely that potential conflicts could spill over outside domestic or local theaters.

The economic impact has already been felt the world over. In the United States, mining activity has depressed industrial output, while in Canada the entire economy plunged into recession in 2015 as a result of sharply lower oil prices. At the same time, income losses are being at least partly offset by gains on the consumer end. Shifts in relative prices of major inputs or outputs occur all the time, and the world economy is resilient enough to absorb them. Overall, oil and its derivatives make up a small and declining share of unit energy costs.

If global investment flows are more unpredictable, currencies more volatile, and changes in income more pronounced, other factors should be taken into account as well. Among them are differences in monetary policies (in the United States and the EU), private debt levels (in Brazil and China), and economic governance (in Russia and Saudi Arabia).

Ian BremmerPresident and founder of Eurasia Group

Did Mikhail Gorbachev’s reforms kill Soviet stability? No. They hastened the melting of frozen instability. That’s the impact of cheap oil on the Middle East, in particular the Sunni Arab petrostates and the governments that rely on their largesse.

There’s already little domestic legitimacy keeping these regimes in place. The United States has little desire to act as the region’s policeman, and nobody else is going to pick up the baton. Communication technologies allow disenchanted young men to more easily mobilize. And there are scant few social, economic, and political reform efforts among the governments themselves; security solutions don’t address the underlying problems. Cheap oil makes those conflicts grow sharper. And faster.

Jan CienskiEnergy and security editor at POLITICO

No, cheap oil won’t kill global stability—in fact, it will bolster it. That doesn’t mean low oil prices aren’t terrible news for a host of countries like Russia, Saudi Arabia, Venezuela, Angola, and other emerging markets that have built their budgets on oil exports. But as their revenues shrink, their largely autocratic rulers will have to focus more on keeping their people from rebelling over budget cuts and less on causing trouble abroad.

Russia will be one of the first to feel the pinch, but the Saudis will also find it hard to sustain a defense budget that eats up more than 10 percent of GDP. Venezuela is already in the middle of a transition to a more sensible and fiscally austere government, and the Saudis and Russians are rapidly heading in the same direction.

For the rest of the world, cheap energy has been a boost to growth in the past, and there’s no reason to think that link has been broken. Faster growth in energy-importing Africa and Asia, as well as the EU, United States, and Japan, means a broadly more stable world.

Deborah GordonDirector of Carnegie’s Energy and Climate Program

Mighty global omnipotence is often attributed to oil. But it’s unclear whether low (or high) oil prices themselves can be squarely blamed for growing global instability. Increasing oil market volatility, however, could prove to be a stronger destabilizing force. If oil prices continue to swing wildly back and forth in the years ahead, this could confound economic, technological, and geopolitical fundamentals.

Oil and gas commodities are reported to have amassed at least $7 trillion in sovereign wealth funds—financial portfolios owned by governments in Saudi Arabia, Russia, and other oil-rich nations. Many of these countries rely on oil profits to sustain their economies and stabilize their societies. Moreover, the global oil industry, with over $1 trillion today in market capitalization, is banking on trillions more in the ground. Significant losses in market valuations can influence political power.

Oil won’t be cheap forever, though. Functioning markets guarantee that what goes up will ultimately come down—and vice versa. Today’s oil market is in transition. This may be the right time to adopt a carbon tax so that, when the market readjusts, it will do so with climate change (an even larger global destabilizer) factored squarely into the price.

Kristina KauschNonresident associate at Carnegie Europe

In the Middle East, cheap oil is very likely to add further trouble in the next couple of years, in particular in the Gulf.

It is no secret that regimes in authoritarian petrostates survive on their ability to appease citizens with subsidies, low taxes, and other economic privileges. Pressured by the oil plunge, heavily hydrocarbon-dependent economies such as the United Arab Emirates, Saudi Arabia, Bahrain, Oman, and Qatar have over the past months started cutting down on subsidies, raising basic food and fuel prices for consumers by up to 60 percent. With more belt tightening down the road, Gulf citizens, accustomed to generous government handouts, may not take the losses silently.

Perhaps even more importantly, Gulf regimes’ awareness of their decreasing power reinforces a dangerous threat perception that pushes some regimes toward more aggressive regional behavior. Notably, Saudi Arabia’s frenetic, often inflamed activism—as reflected in the war in Yemen or Riyadh’s recent forced escalation with Tehran—recalls the desperate rage of a wounded lion and makes Saudi Arabia look less like a Western ally than a spoiler.

Despite massive revenue losses, Saudi Arabia has been flooding the oil market to counter Tehran’s oil potential and protect its market shares. This shows that in Riyadh’s own risk assessment, the regional threat clearly trumps the domestic danger. That balance may soon tip, however. The International Monetary Fund projects that at current spending levels, Gulf states will have used up all their financial buffers by 2020. And when Riyadh gets nervous, so should the West.

David LivingstonAssociate in Carnegie’s Energy and Climate Program

How quickly paradigms shift. It was only half a year ago that the fall in oil prices was widely interpreted as a positive phenomenon for the global system, transferring wealth away from profligate oil producers and into the hands of consumers in major net oil importers such as the EU, India, and the Philippines.

Today, many are beginning to question the tenets of the low oil price orthodoxy. In Europe, concerns over the deflationary impact of falling commodity prices outweigh the putative wealth effect. In the Middle East, the evaporation of petrodollars is beginning to force much-needed reforms but is also exacerbating an environment of anxiety and enmity. Cheap oil also makes the necessary transition away from a fossil fuel–based economy that much longer and harder. The risk of missing climate goals rises.

Most importantly, the new understanding among economic cognoscenti is that rapid and prodigious drops in oil prices (over 70 percent in a year and a half) are likely to disproportionately hurt global asset prices, risk a liquidity trap, and possibly trigger a painful bout of deleveraging.

Welcome to the new nonlinearity. The oil market sneezes; the world catches a nasty cold.

If the oil price remains at current levels, the economies of Russia and many oil-producing countries in the Middle East and North Africa will suffer ever-greater financial losses. For countries that used to buy off their populations through generous subsidies, the prospect of a continuing global oil glut must look like a recipe for domestic instability. Add to this an intensifying geopolitical rivalry among certain producers in the Middle East, and you may end up with a perfect storm right at NATO’s doorstep. And Iran hasn’t even reentered the oil market yet.

From NATO’s perspective, Russia is the most important case. Moscow’s high-octane military modernization rhetoric stands in marked contrast to the enormous financial losses the country is suffering due to cheap oil. With oil and gas exports accounting for over half of Russia’s budget revenues, the country is heading for a recession. Will this make Russia a more conciliatory partner? Or will Moscow succumb to its darker reflexes of foreign policy adventurism and a tendency to blame the West for its economic ills? Russia’s answer will be a boon or a bane for European and, indeed, global stability.

This contribution represents solely the author’s personal views.

Ulrich SpeckSenior fellow at the Transatlantic Academy

In foreign policy terms, low oil and gas prices have a stabilizing, rather than a destabilizing, impact. This is because petrostates such as Russia, Iran, and Saudi Arabia are in most cases projecting instability, not stability, beyond their borders.

This has to do with the nature of these regimes. Most petrostates are dominated by elites whose rule is based on two pillars: they buy support from the masses, and they finance an expansionist, often aggressive foreign policy that helps legitimize the regime and fend off the pressure to democratize.

Unlike countries that rely on the two-way relationship of selling and buying goods and services, states that depend overwhelmingly on the sale of oil and gas are less exposed to the civilizing effect of capitalist work ethics; they often fail to seek win-win solution in their dealings with the outside world.

A diminished capability of Russia, Iran, and Saudi Arabia to interfere in their neighborhoods, caused by low oil and gas prices, is going to lead to more stability, but only in the longer run. In the short term, these regimes may become even more aggressive, as the foundations of their power are under threat.

Dmitri TreninDirector of the Carnegie Moscow Center

The continuing slide of the oil price to possibly as low as $20 a barrel has not created global instability but is massively feeding into existing instability. The countries that depend on oil revenues for their budgets are facing major domestic constraints and potential social and political turmoil. It is now the (still rich) oil-producing monarchies of the Gulf rather than poorer Arab regimes that are feeling the pinch. The effect will not necessarily be a new edition of the Arab Spring, but it will be palpable.

For Russia, the dramatic oil price plunge has given a coup de grâce to the economic model the country had lived under for fifteen years and has proceeded to undermine the various political and social relationships holding the country together. Russia has not only been thrown into a severe crisis; it also suffers from an internal crisis of confidence and lacks a sense of direction. All this is happening at a time of Russia’s unusual foreign policy activism, as Moscow has broken out of the U.S.-dominated post–Cold War order and intervened militarily in Ukraine and Syria. Penury is making the Kremlin limit its engagements to the margins, but on the central front the Kremlin is unlikely to beat a retreat.

In principle, the oil price slide could bring Russia back to economic and political realism and give the necessary push for economic diversification, technological development, and investment in human capital. Yet, these hopes have so far not been realized. The current moneyed and power elites are too wedded to their current modus operandi to change their ways. Instead, they hope that the oil price will soon bounce back to a comfortable level. The constituencies interested in change remain too weak to make a difference. With Russia’s rebirth postponed, its decline has accelerated.

Wang TaoNonresident scholar in Carnegie’s Energy and Climate Program based at the Carnegie–Tsinghua Center for Global Policy

Counterintuitively, China, as the world’s largest oil importer, is not applauding the current low oil price. It is true that low oil prices could mean large savings for China in terms of oil imports, but Beijing’s nontransparent pricing of domestic oil products increased discontent among the public when China’s price adjustment of gasoline failed to follow international trends. Chinese citizens dismissed the government’s excuse of protecting the environment, despite three air pollution red alerts in Beijing in four weeks at the end of 2015.

The low oil price has made many of China’s overseas oil investment projects uneconomical, like the oil and gas import contracts that China’s national oil companies signed recently. In the case of Venezuela, where China has invested billions of dollars and still holds dozens of billions of dollars in unpaid loans, the risk to the governing regime and to China’s assets is accumulating at a worrying rate.

Over the longer term, low fossil fuel prices will also deter China’s domestic efforts to develop renewable energy and pursue an economic transition, resulting in more pollution and economic disruption to both China and the world. Feasting is never sustainable in life, whether for producers or for consumers.

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